Watchword On Markets Is Caution

There are two words being used to sum up the outlook for the stock market in 1997: cautious optimism.

Market watchers are expecting more normal growth overall, but there lurks the possibility of some wild roller-coaster rides, especially during the first six months of the year.

``We're counseling clients to ratchet down their expectations,'' said Bruce C. Stenquist, vice president at A.G. Edwards & Sons Inc. in Farmington. ``You can't expect these types of returns on an ongoing basis.''

Bob Rodia, president of the discount brokerage at People's Bank, agreed. ``No one's looking for double-digit returns,'' he said.

According to Advest Inc., returns on common equity averaged 35 percent in 1995 and 18 percent in 1996.

In Connecticut, brokerage firms reaped the financial rewards of a soaring market and, in 1997, are expected to continue to work on building relationships with the small investor.

The trend will mean opening more suburban offices and emphasizing convenience, bringing services to clients who would rather not drive into the city.

Brokerages -- like banks and insurers -- will continue to transform themselves from a buy-sell business to one that provides long-term portfolio management for clients, according to John H. Shaughnessy, director of research at Advest Inc. in Hartford.

By most accounts, the performance of the stock market in 1996 surprised many market observers. The Dow Jones industrial average -- the venerable index of market health -- registered a 26 percent gain and set records 40 times.

Most had predicted single-digit growth, coming off the Dow's 33 percent-plus stampede forward in 1995 and 69 days with record closes.

But while the market surged forward overall, 1996 resembled a roller-coaster ride with plenty of stomach-souring plunges, such as the panicked sell-off in mid-July fueled by inflation and worries about earnings.

In 1997, Shaughnessy expects the Dow to end the year at 7,200, up 10 percent. Some analysts say that will come after a setback in the first six months of the year.

Still, interest rates and inflation could creep up a little, especially following reports that new-home sales and consumer confidence showed more strength than expected in late 1996.

Economic expansion is expected to slow, but not enough for a recession.

Corporate profits -- a key accelerant fueling the sizzling market of the '90s -- are expected to slow, as they did for some companies in the last half of 1996.

Earnings are a traditional market indicator and a slowdown could be cause for caution. But the rising market of the past decade might be a sign that investors are beginning to take a fundamentally different view of the market: it can be a good long-term investment, some observers say.

Comments by Federal Reserve Chairman Alan Greenspan in early December noting the ``irrational exurberance'' in the stock and bond market were intended as a warning against unbridled speculation, Shaughnessy said.

``He fired a shot across the bow of investor speculation,'' Shaughnessy said.

Arnold Kaufman, an editor at one of Standard & Poor's stock research publications in New York, said 1997 could be an unsettling year because of prior market trends in this century.

Every two decades beginning in the 1930s, there have been two bull markets in the middle of the decade, followed by a market that's barely up, flat or down. The trends are measured in the S&P 500, a major index of 500 stocks in all major industries.

For instance, 1935 saw the index rise by 41 percent, followed by 28 percent in 1936. But in 1939, the market measuring stick took a 39 percent dive. Similiar activity was recorded in the mid-1950s and the mid-1970s, Kaufman said.

``That doesn't bode well for 1997,'' Kaufman said.

Nevertheless, Kaufman -- and most other observers -- see more stability this year. Kaufman's prediction: The market will be flat or experience a modest gain after a setback in the first six months of the year.

Stenquist said the pharmaceutical, soft drink and smaller domestic oil companies will be sectors with promise in 1997. Several brokerages said banks -- which outperformed the Dow and S&P 500 in 1996 -- and other financial services companies will remain good investments.